Saturday, March 28, 2009

When the Fed was created as an independent agency, the intent was to insulate it as much as possible from being a pawn of either the congress or the executive. Fed independence was assured because after being appointed by the president and confirmed by the senate, Fed governors cannot be fired - only impeached. Also the Fed is self financing and isn't dependent on budget appropriations. Lastly the Fed chairman's term does not coincide with the president's making a new president wait two years before a new fed chairman can be named. This independence has historically served the country well. The Fed has often taken policies that were opposite that of the congress and the president to ensure price stability in times of congressional largesse. Go back to your history books and read about the Treasury Accord during the Korean War for an example. However, Fed independence waivered when Alan Greenspan endorsed George Bush and the republican congress' spending spree that increased the federal budget by $1 trillion. To finance that surge in spending without increasing taxes, the Fed bought treasury bills through its open market desk. The result was persistently low interest rates which led to the housing boom and the rest is history.

The Bernanke Fed has followed Greenspan in its complicity with the congress and the executive spending spree only it has done one better. In addition to aggressively engaging in open market operations with the public, it has also bought treasurys directly from the Treasury, and purchased $2 trillion and counting in asset-backed securities. The question is why? Why is the Fed acting in concert with the president and congress? Isn't it curious that if borrowing and spending got us into this mess, that the Fed would endorse a policy of more borrowing and spending rather than fiscal restraint? The only answer I can come up with is that Bernanke wants to be reappointed to another four year term as chairman. If he exercises his independence, then Obama would likely appoint some else, like Larry Summers, who is one of the chief architects of this financial irresponsibility.

What makes Bernanke's actions so troubling is that the Fed, being independent, is also not accountable. It refuses to reveal who it has loaned to and what amount. Congress can change all this by changing the Federal Reserve Act. Maybe it is time to do just that. In that manner at least the public will be informed as to what its government is doing. Lastly, Bernanke's complicity, the incredible surge in bank reserves, the monetizing of the national debt have led me to conclude that it is time to take money creation out of the hands of the Fed. Do I hear "gold standard"?

Tuesday, March 24, 2009

It has often been said that socialism fails everywhere but in the minds of academics and liberals. Oh contraire. In yesterday's lecture to my financial markets class on interest rates, I cited Sen. Durbin's bill to impose a national usury ceiling of 36 percent on consumer lending as a classic example of government interference into markets. I tell the students that if they know supply and demand and present value, then the course is easy. As an illustration of government imposed floors and ceilings, I asked how many favored minimum wage legislation. Disappointingly most raised their hands - and they are finance majors and seniors! I then drew a supply and demand curve for low wage labor with the minimum wage above equilibrium. Labor markets with wages above the minimum are not affected. However for the market affected, the impact is that at that wage, there are more laborers demanding employment than there are jobs resulting in unemployment. The empirical evidence bears this out and it is a well know fact that raising the minimum wage increases unemployment among those at that wage. Given the excess of workers, I then show the students that employers deciding among who to hire will make that decision based on the employer's tastes and preferences. Therefore, the government interference in the market causes the employer to engage in discrimination against workers. Likewise, if Durbin's 36 percent usury ceiling is enacted and is binding, supply and demand tells us that if it is binding, then there will be a greater quantity of loans demanded than lenders are willing to lend. Again, in deciding who to lend to, lenders will make that decision based on their tastes and preferences rather than letting the market allocate based on the price of the product. Once more, the lenders will engage in discrimination against borrowers. As I then said to the class, this is the result of socialism where markets are not allowed to function and allocate resources based on supply and demand. In socialism the allocation of resources is decided by the taste and preferences of the state and those who administer the programs for the state. Then looking at my students, I said that this is why I reject socialism because I would rather be discriminated against by the market than by you.

Monday, March 23, 2009

Correct me if I am wrong, but I thought that monetizing the national debt was confined to third world banana republics. In those countries, governments are hard pressed to sell their debt offerings because of either of the threat of default or because the value of the offerings is constantly being debased by inflation. Thus, in order to finance ever growing deficits, those governments resort to "printing money". They actually don't simply print money, rather they have their central bank purchase the securities directly from their treasury department. In this way, the central bank props up the government and allows it to keep spending. The inevitable result is inflation.

Well, the United States is now an official banana republic (I can hear the reggae playing in the background). The Fed announced that it is buying $300 billion in long term Treasurys, essentially monetizing the national debt by "printing money". Not surprising, the instant result was a sharp decline in long term treasury yields and a likewise sharp decline in the value of the dollar. What prompted the Fed to embark on such a course? Was it the worry by the Chinese Premier Wen Jiabao about the integrity of all the billions of US debt that China holds? Was Mr. Wen intimating the reluctance of China to buy a large chunk of the $2 trillion that will have to be borrowed by the Treasury to finance TARP/"stimulus"? Or for that matter was it the realization of the Fed about the Treasury's ability to borrow to finance the $2 trillion period?

The Fed's essentially increased the demand and caused the yields on 10 year Treasurys to plummet as prices on those bond prices rose. However, the lower yields meant lower returns on dollar denominated instruments leading to the largest single day decline in the dollar vis-a-vis the euro in history. The Fed has rightly been criticized for this "lets cheapen the dollar policy" during the Greenspan era but this policy of monetizing the debt goes even farther. Now its cheapen the dollar, make it even more less attractive to buy Treasurys and increase inflation to boot. I have written elsewhere that once upon a time the Fed was actually the guardian of the economy making inflation job 1. I recall textbooks writing about the Treasury Accord during the Korean War when the Congress wanted low interest rates to reduce the cost of fighting the War while the Fed insisting on raising interest rates to help fight the inflation that would result from the increased levels of government borrowing and spending. Oh for those good old days! In the past, Congress was a bunch of children and the Fed was the adult. Today, there are no more adults.

Thursday, March 12, 2009

Pardon me for getting personal but this has been a distressful week. Barack Obama gave what I thought was a very brave speech before the Hispanic Chamber of Commerce. He broke ranks with the Democrats and the teachers' unions by advocating merit pay for teachers. Then the very next day, he signed a bill that contained a provision inserted by Dick Durbin (D-Ill) that eliminated school vouchers for children in the District of Columbia. I was appalled. How could he embrace merit pay and then condemn black kids to purgatory the same week? Please would someone tell me why Democrats hate black children? When I was younger I argued that once blacks took over the cities, elected their own leaders and took over the boards of education, then the educational achievement levels of black kids would rise. I was wrong. The opposite happened. Black educational levels plummeted, drop out rates, soared, and illiteracy increased among black youth. What happened? Let us return to those days of yesteryear. When I grew up in urban Atlanta, society was so segregated that I never talked to a white person before I went to college at the University of Georgia. I was educated in all black schools with all black teachers. Back in those days, being a teacher was a very good job because educated blacks either had to work for the government or be self employed entrepreneurs. Teachers took pride in their work and I got a great education. How do I know it was great? Well when I went to the University of Georgia in September 1962, hardly any of my classmates had ever had a class with a black student. The University had said that in its history it had never discriminated against blacks, they had simply never gotten an application for any blacks who were qualified. Since we were there by court order, it naturally followed that except for the courts, we would have been rejected as well as being not qualified. So imagine the surprise of my classmates and my professors when the main challenge was to see if there were any students in any of my classes who were smarter than me. Sure there were a handful in my four years at Georgia who were as smart but I never met anyone I considered smarter. This changed when I went to Ohio State for graduate school. However, my great education was in spite of the all white Atlanta board of education. We got hand-me-down textbooks that were older editions that were discarded by the white schools. If we had lab equipment, it was out of date and old. Teachers provided supplies out of their own pockets. My parents were teachers and I know how much of their salaries they spent on supplies for their students. So I thought that once the blacks took over, we would still get a great education, only now we would have new books and new stuff for the labs. I also thought that we would have access to the public libraries rather than to the dinky branch that we were allowed to patronize. Boy was I wrong. Instead of getting an education in urban schools, its just enough to maintain order. It has been demonstrated again and again that vouchers work. Yet they are rejected by the democrats and the teachers' unions. The educational system clearly doesn't work. Urban black kids are not dumb. Any kid who knows the lyrics of some rap song after only two hearings could learn Tolstoy if there were a War and Peace rap. I have suggested in the past that we take the money currently being spent per student and contract education out to the Catholic church or to private schools. Black urban education is a national disgrace. Any black leader who ignores the problem is not a leader and should be dismissed out of hand - and this includes Barack Obama.

About Me

Harold A. Black is professor emeritus in the Department of Finance, University of Tennessee, Knoxville having retired after 24 years of service. He has served on the faculties of American University, Howard University, the University of North Carolina - Chapel Hill and the University of Florida. His government service includes the Office of the Comptroller of the Currency and as a Board Member of the National Credit Union Administration. He also has served on the boards of directors Home Savings of America and its parent company, H. F. Ahmanson & Co., Irwindale, California prior to its merger with Washington Mutual Savings Bank, on the board of New Century Financial Corporation, Irvine, California, then the nation’s largest real estate investment trust and as director and later chairman of the Nashville Branch of the Federal Reserve Bank of Atlanta. He writes an occasional article for the Knoxville News-Sentinel at http://www.knoxnews.com/staff/dr-harold-black/. His web page is haroldablackphd.com